Working Paper: NBER ID: w15427
Authors: Peter Howitt; Mer Zak
Abstract: This paper proposes and studies a theory of adaptive consumption behavior under income uncertainty and liquidity constraints. We assume that consumption is governed by a linear function of wealth, whose coefficients are revised each period by a procedure, which, although sophisticated, places few informational or computational demands on the consumer. We show that under a variety of settings, our procedure converges quickly to a set of coefficients with low welfare cost relative to a fully optimal nonlinear consumption function.
Keywords: adaptive consumption; income uncertainty; liquidity constraints
JEL Codes: E21; C63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| adaptive algorithm (C53) | welfare costs of consumption (D69) |
| adaptive learning mechanism (D84) | consumption rule with low welfare costs (D11) |
| constant relative risk aversion consumers following linear consumption rule (D11) | welfare loss compared to fully rational consumption rule (D11) |
| social learning conditions (C92) | time to achieve low welfare loss (D69) |
| mean and median welfare losses under individual and social learning (D69) | around 1% in less than 25 periods (C41) |